CONSTRUCTION COSTS MUST BE REASONABLE

 

When it comes to proving a construction cost, particularly a cost in dispute, the cost must be REASONABLE.   Costs subject to claims must be reasonably incurred and the party incurring the costs must show the costs are reasonable.

An example of the burden falling on the contractor to prove the reasonableness of costs is found in government contracting.

“[T]here is no presumption that a [government] contractor is entitled to reimbursement ‘simply because it incurred…costs.’”  Kellogg Brown & Root Services, Inc. v. Secretary of Army, 973 F.3d 1366, 1371 (Fed. Cir. 2020) (citation omitted).  Stated differently, a federal contractor is not entitled to a presumption of reasonableness just because it incurs costsId.

In government contracting, the Federal Acquisition Regulations (known as “FAR”) puts the burden of reasonableness on the contractor that incurred the costs.  Id.

FAR s. 31-201-2(a) [Determining allowability] provides, “A cost is allowable only when the cost complies with all of the following requirements: (1) Reasonableness….”

FAR 31-201-3 [Determining reasonableness] maintains:

(a) A cost is reasonable if, in its nature and amount, it does not exceed that which would be incurred by a prudent person in the conduct of competitive business. Reasonableness of specific costs must be examined with particular care in connection with firms or their separate divisions that may not be subject to effective competitive restraints. No presumption of reasonableness shall be attached to the incurrence of costs by a contractor. If an initial review of the facts results in a challenge of a specific cost by the contracting officer or the contracting officer’s representative, the burden of proof shall be upon the contractor to establish that such cost is reasonable.

 (b) What is reasonable depends upon a variety of considerations and circumstances, including-

            (1) Whether it is the type of cost generally recognized as ordinary and necessary for the conduct of the contractor’s business or the contract performance;

            (2) Generally accepted sound business practices, arm’s-length bargaining, and Federal and State laws and regulations;

            (3) The contractor’s responsibilities to the Government, other customers, the owners of the business, employees, and the public at large; and

            (4) Any significant deviations from the contractor’s established practices.

In Kellogg Brown & Root Services, a government contractor on an international project received a task order from the government to provide accommodations and life support services which equated to trailers for temporary housing for army personnel.  The government was to provide protection / security for the contractor.  The contractor subcontracted the procurement of the trailers.  The contractor claimed due to delays from the Army’s failure to meet its protection obligations, there were delivery delays resulting in storage costs and additional double handling costs (e.g., loading and unloading of trailers more than once) incurred by its subcontractor.  The contractor submitted a claim of “$48,754,547.25 in equitable adjustments for idle truck costs due to the backup of trailers at the border and double handling costs” due to the government’s failure to provide protection, along with associated markup.  Kellogg Brown & Roof Services, supra, at 1369.   The contracting officer’s final decision denied all of the claim but $3,783,005 which pertained to land that had to be leased to store the trailers due to the delay.

The contractor appealed the final decision to the Armed Services Board of Contract Appeals.  The Board concluded that the contractor had NOT demonstrated its costs were reasonable.  In particular, the Board found: (a) the contractor did not demonstrate a prudent person conducting a competitive business would have resolved its subcontractor’s delay claim upon the same model submitted by the subcontractor; and (b) the contractor did not demonstrate the double handling costs were reasonable.  The contractor submitted estimates from its subcontractor and did not submit any actual costs; thus, the Board found the damages models (estimates) were unreasonable and flawed.  For this reason, the Board denied all recovery prompting the contractor to appeal to the United States Court of Appeals for the Federal Circuit.

The United States Court of Appeals agreed with the Board that the contractor failed to show the costs it incurred were reasonable.  Even if the contractor established the government’s liability for the costs, the claim failed due to the failure to show the reasonableness of the incurred cots.

In addressing this issue, the Court noted that the contractor was not required to show the actual costs incurred by the subcontractor, but it was required to show the payments to its subcontractor—costs incurred—were reasonable.  The problem for the contractor was that it failed to show in any of its cost calculations that the methodology used to calculate the delay costs was reasonable.  Instead, the Court picked apart, based on what the Board concluded from the evidence, the model employed by the contractor for being inconsistent and unreasonable based on a number of different grounds as the contractor’s damages model did not depict actual events that occurred.  The Court explained, “[the contractor] supplied no meaningful evidence to the Board showing the reasonableness of its costs, nor has it explained the inconsistencies between its proposed cost model and the factual record.”  Kellogg Brown & Root Services, supra, at 1374.

Regardless of the type of project, it is important to remember that a party (e.g., contractor) still must demonstrate that the cost it is claiming as damages is a cost that it is reasonably incurred!

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

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